Your Personal Discount Rate

Scientist Jeff Schweitzer has an interesting and unique, but disturbing (and very real) application of the time value of money concept. He says environments in developing countries are being destroyed because of the infinite discount rates of their starving populations. They prefer the immediate provision of (say) fish from the sea, rather than the distant dream of a perfect ecosystem.

In other words, their personal infinite discount rate makes the future value diminish to zero, and the present value therefore becomes very real, very positive, and very appealing. So they end up choosing the environmentally destructive option which ensures their own survival, at the cost of the long-term preservation of the environment. And the environmental preservation could, in fact, potentially lead to their personal destruction. From the point-of-view of what we have learned about the time value of money, this option is the rational one. Always choose what pays you more, so the moral of the story is: Destroy the environment! Right?

It’s obviously not that simple. But read on, you may end up learning something:

Consider a starving man, who is offered a choice: he can have a sandwich now, or $10,000 a month from now. The unfortunate man will certainly forego future riches for immediate nourishment. He essentially has an infinitely large personal discount rate. …. Now consider a wealthy man given that same choice. The sandwich has zero value to him (he just ate a big lunch), and waiting for the $10,000 causes no pain but some modest gain. He basically has a personal discount rate of zero, meaning he is willing to pay nothing to have a future benefit given to him now.

The actual value of personal discount rate is notoriously difficult to nail down. The value is impacted by personal circumstances such as our age and health, the perceived desirability of what is being offered, the immediacy and urgency of our needs (food, clothing, shelter), our moral commitment to future generations, our emotional state and our level of patience in waiting for a result. [link]

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1 comment for “Your Personal Discount Rate

  1. ttarver53@hotmail.com
    April 16, 2013 at 10:03 am

    Thank you for that reply. Im in class and your example just explained everything so much clearer for me.

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